What Is the Crypto Wash Sale Rule?

What Is the Crypto Wash Sale Rule?

The cryptocurrency market has always been characterized by wild ups and downs. However, the current market decline, which began in November 2021, is the deepest bear market ever in terms of total value lost: $1.8 trillion with more to come.

Gone are the days when you could just sit back and trust that your Bitcoin investment will grow over time. Against this backdrop, investors should look closely at optimizing their cryptocurrency holdings by any means necessary, including exploring cryptocurrency tax loss harvesting strategies to reduce their tax liability.

When using a tax loss, you should be aware of the wash-sale rule which is actively enforced by the US Internal Revenue Service (IRS) and other tax authorities. The wash-sale rule exists to prevent people from profiting from the collection of tax losses. Rule violations have led to significant losses for countless investors. The possible implementation of the rule on the sale of cryptocurrency for money laundering now depends on cryptocurrency investments such as the sword of Damocles. In this article, we’ll cover this important rule and show you how to avoid breaking it.

IRS washing sale rule in the United States

The IRS wash-sale rule in the United States defines a specific time period and procedure in which it is against the law to use cryptocurrency loss collection to replace capital gains with capital losses.

The US wash-sale rule applies when an essentially identical asset is sold at a loss before being repurchased within 30 days. If an investor buys a nearly identical stock or bond within 30 days, he is ineligible for capital gains and losses compensation.

Could there be a rule for selling cryptocurrencies in the US?

Keep in mind, however, that the IRS’s wash sale rule currently only applies to securities, including bonds, stocks, and similar financial instruments. The IRS does not classify cryptocurrencies as securities, which means this rule does not apply to cryptocurrencies.

However, the US government has stepped up its efforts to implement the rule on the sale of cryptocurrency for money laundering. In late 2021, the Biden administration proposed a bill called the Build Better Act. One of the many provisions proposed in the bill would have undermined the cryptocurrency laundering rule.

However, the government is continuing its efforts to negotiate the required majority in the Senate to pass at least part of the bill. This opens up the possibility of effectively applying the cryptocurrency wash-sale rule at any time.

How to avoid violations of the laundry sale rules

There are three main ways to ensure you don’t get caught up in the upcoming cryptocurrency laundering rule, while also successfully claiming your tax losses.

1. Just follow the 30 day before and after time window

This is the first and simplest rule. The IRS’s lingerie sale rule doesn’t contain a strict coverage period. Maintaining a modest 30-day time limit before and after the sale is the surest way to ensure your tax loss claim is successful. Plan your course of action in advance and buy the target asset 31-40 days before or after the loss-making sale.

Naturally, using this method exposes you to market volatility. However, changes in the target price can be in your favor, not necessarily against you, especially in the context of basic planning and market analysis.

For example, if your target asset is in a long-term downtrend, you make the purchase more than 31 days after the sale at a loss. Conversely, if the asset is on the uptrend and is expected to continue in the same way, buy it at least 31 days before selling it at a loss.

Finally, if the asset’s price is stable and you’re not in a significant uptrend or downtrend, you probably won’t lose (or gain) much looking at the 30-day time frame.

2. Sell your assets and buy a fund-based product with significant exposure to them

The IRS’s sale of linen rule states that tax losses cannot be claimed if the product bought and sold is the same or substantially identical. Unfortunately, there is no clear numerical specification of what constitutes an essentially identical product. Investors rely heavily on the IRS’ historical application of the rule to assess whether their tax losses are safe.

In general, the IRS was comfortable with investors selling stock and buying a fund-based composite product with significant exposure to that stock. For example, you can buy a mutual fund, index fund, or ETF product for a large portion of your assets.

While the rule on the sale of cryptocurrency money laundering has yet to be implemented, it is helpful to consider fund-based crypto products when planning the likely implementation of the rule. For example, products like the Bitwise 10 Crypto Index Fund and the Galaxy Crypto Index Fund have significant holdings of Bitcoin in their composite indices. These products can be considered if BTC is involved in the loss of sales.

3. Sell your good and buy another good that has a very high correlation with it

The two assets, which traditionally have a high correlation, can also be used to avoid future violations of cryptocurrency sales rules for money laundering. A high degree of correlation between two assets indicates that their prices move in the same direction and market changes are approximately equal. Correlations are expressed using a correlation coefficient with a value between −1.0 and 1.0.

Typically, a correlation coefficient of 0.9 to 1.0 indicates a very strong relationship between the prices of the two assets. When you sell an asset at a loss, you may buy before or after another commodity or product with a correlation of 0.9 (or more).

To take off

The probable future implementation of the Crypto laundry Selling Rule makes it imperative for investors to keep abreast of the latest developments in this area. This is true for cryptocurrency investors, both in the United States and many other jurisdictions, as governments around the world put increasing regulatory pressure on cryptocurrencies.

If, or rather, when a country’s government implements a cryptocurrency sales rule, you can use one of the three basic methods outlined above to safely lower your tax bill.